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wealth of whatsits

Your Humble Blogger tried to write another note about our financial crisis, and once again gave up partway through. This time, I was trying to explain my feeling that much of the “wealth” in this country never really existed, because of financial funny business. That is, if a thing—a Pedro Martinez rookie card, a house, a stock portfolio— is worth whatever some schmuck is willing to pay for it, and people are willing to pay much more than they can afford, and banks (and other lending institutions) are willing to prop up those prices not based on some agreement about the value of the object purchased but based on what some schmuck is willing to pay them for the debt, then the notion of wealth and value gets untethered from, well, from itself.

Now, that’s not such a problem, really. I mean, it is and it isn’t. It is, because we’ve essentially hooked our economy basket to a big hot-air balloon and launched ourselves over the cliff. The discovery that there’s nothing in the balloon but air is one thing, but if we can’t keep that air hot, we’re in for a bumpy ride.

On the other hand, the sudden discovery that the houses that were sold for $500,000 aren’t worth half a million dollars, and were never actually worth half a million dollars in the sense that the person who bought the house didn’t have half a million dollars and couldn’t have borrowed the money to buy it if the banks hadn’t been bugnuts crazy, well, the house is still there, the roof still keeps the rain off your head, the deck is still sunny and the windows are still double-glazed. There’s a sense of wealth that doesn’t have much to do with money, and that stuff is mostly still around.

I found Paul Krugman’s mention of Two Kinds of Problem convincing. The problem that I care about the most—people losing their houses, their jobs, and their health insurance, their social security, if you don’t mind my calling it that—is bad, but not the sort of thing we have to address over the weekend. In fact, it’s probably not a good idea to address that sort of thing with any fundamental policy changes four weeks before an election. On the other hand, the financial crisis, which indirectly affects all that stuff I actually care about, is the sort of thing that we really do risk chaos if we lose our moment, and that moment may be this weekend. Or last weekend.

There’s another problem, which is how the fuck did we let ourselves get into this mess, but sadly, answering that doesn’t get us much closer to getting us out of it. I’ll just say that there was a nice little NPR story this morning about Bank-to-Bank loans, and all I could think of was that in corporate capitalism, the fact that the whole system is dependent on short-term loans of billions of dollars from one bank to another is considered a feature.

Corporate capitalism is some fucked-up shit, ain’t it?

Tolerabimus quod tolerare debemus,
-Vardibidian.

Comments

There’s another problem, which is how the fuck did we let ourselves get into this mess, but sadly, answering that doesn’t get us much closer to getting us out of it.

I submit that this sentence applies to any problem sufficiently vexing as to need getting out of. I may need to make little business cards of it.


I would submit that back in the days before corporate capitalism expanded the scope of the problems we face in keeping the world livable, this idea was stated in more colloquial terms as

closing the barn door after the horse has bolted.

TSOR reveals that this time-worn phrase has been repeatedly applied to the steps the Federal Reserve has taken to restore sane behavior to the finance industry since mid-summer.


closing the barn door after the horse has bolted

Except in this case, we aren't altogether sure how many horses there were in the first place, and they didn't so much bolt as they were sold off. Even the one's that were never there.

this sentence applies to any problem sufficiently vexing as to need getting out of

I hate to disagree with myself, but I do think that sometimes how the fuck did we let ourselves get into this mess is a step toward getting out of it. Not always, and probably not the majority of the time. The trick is to know when you can just go forward and get out, and when you have to go backward and get out. How do you know which kind of mess you are in? I have no idea, I'm just a blogger.

Thanks,
-V.


That is, if a thing—a Pedro Martinez rookie card, a house, a stock portfolio— is worth whatever some schmuck is willing to pay for it, and people are willing to pay much more than they can afford, and banks (and other lending institutions) are willing to prop up those prices not based on some agreement about the value of the object purchased but based on what some schmuck is willing to pay them for the debt, then the notion of wealth and value gets untethered from, well, from itself.

As it relates to the housing market, for example, I disagree. Each debt buyer is in the same position as the original lender in trying to determine the value of the debt, which is the amount of the debt, the risk of default, and the liquidated value of the underlying asset in case of default. The fact that mortgages are sold doesn't change those calculations. A volatile housing market is what changes those calculations, and there are numerous negative feedback loops when prices drop, but the notion of value is still tied to the underlying question of what someone else is willing to pay for the asset.

Speculation in a market reduces market stability, but that's also true regardless of whether there's a further market for debt.

The problem that I care about the most—people losing their houses, their jobs, and their health insurance, their social security, if you don’t mind my calling it that—is bad, but not the sort of thing we have to address over the weekend.

I think true urgency in addressing those problems would be welcome. You mention houses and health insurance. People losing their houses to foreclosure right now is creating massive problems right now for all of us because the foreclosure rate has climbed above what the economy can cleanly handle, so houses are being abandoned. Aside from the social problems of community disruption and increased crime, there are the economic problems of a dropping housing market that affect homeowners and lenders, and the problem for our national wealth of the abandoned houses being stripped for pennies of scrap value on the dollar of damage. Abandoned houses are being turned into tear-downs, and that damage is quick and irreversible. We can't solve the problem over the weekend, but we can and should put pressure on the wound by implementing an immediate temporary halt to foreclosures.

Health care also cannot be solved over the weekend, but the situation can be improved in a vast number of ways that will immediately reduce suffering and death. The time is never wrong to do that.


Each debt buyer is in the same position as the original lender in trying to determine the value of the debt, which is the amount of the debt, the risk of default, and the liquidated value of the underlying asset in case of default. The fact that mortgages are sold doesn't change those calculations.

I don't think this describes what happened at all well. First: the original lenders were using mortgages to back CDOs; the CDOs were rated irrespective of thigs like the risk of default and the liquidated value of the underlying asset. The sale of the CDO shares were not, by all the evidence I've heard, made with information as to the actual collateral. Thus, the lender could make a (short-term) profit off a mortgage independent of the stuff you are talking about. Now, of course in a rational system, nobody would risk the solvency of their company for a short-term profit, and yet of course that's exactly what happened.

In addition, particularly for HELOCs, at the level of the local bank, the pressure to meet quotas totally overwhelmed the judgement of the factors you cite. There were massive penalties for not meeting quota; there were no penalties for meeting quota by putting houses into negative equity. The risk of default and the realizable value in foreclosure were not taken into serious consideration. What was taken into consideration were short-term goals that had to do, ultimately, with increasing the numbers the lender could bundle into CBOs.

an immediate temporary halt to foreclosures.

You are right, that would be good, and the problem of deterioration of housing stock is probably more urgent than I realized. I do think that such a halt would probably have a detrimental effect on the credit/stock fiasco, but that isn't necessarily so, and is probably worth doing anyway. My point was that when viewed as a percentage of housing stock, the number of houses that are going to be stripped in the next, say, four weeks is miniscule, while the percentage of wealth evaporation in the dow/bank/whatnot could be pretty substantial. The dollar could fall 50% in a day; S&P could fall 50% in a day; we aren't going to lose anything close to 5% of our housing stock in a day.

That doesn't mean the S&P and the dollar are more important; they aren't. But it does mean that the timing is a bigger deal for them.

Another thing that occurs to me—I wonder if this crash is so much a bigger deal than 1987 (f'r'ex) in part because we've dismantled so much of the safety net since then? The idea of being out of work, out of health insurance, out of a house, etc, seems much scarier to me now than it did then, although (thinking again) that may just be that I was a teenager then, and thought I would live forever.

Thanks,
-V.


In reverse order:

The safety net feels eroded to me as well, and I think that being older has only contributed to some of that.

There's a huge difference between the dollar falling 50% relative to other currencies and the dollar falling 50% relative to its purchasing power for goods and services. And the S&P can't fall 50% in a day if we implement trading halts the way we're supposed to. But both of those are only problems to the extent that they lead to panic or the loss of wealth that we actually need, and that's tied to our safety nets.

Securitized debt became a problem to the extent that the debt sellers were willing to lie about the securities, rating them falsely. It's important to understand that, since blame for this entire economic mess is being assigned to the people who lied. The lending for primary and secondary mortgages that exceeded house values was also fundamentally grounded in people (appraisers and lenders) lying about the estimated house values. And the 60 trillion in credit default swaps wasn't about people buying and selling debts at all.


60 trillion in credit default swaps wasn't about people buying and selling debts at all

Well, it sort of was about that, because (as I understand it, and I could certainly be wrong, because this whole thing is Not My Field with a vengeance) credit-default swaps are something like wagers on debts being paid off and something like insurance against debts being paid off, only with no regulation or taxes. There is a debt at the bottom of the thing, right? The analogy perhaps is to a horserace, where there are three things going on: the purse, an amount of money that goes to the owner of the winning horse and comes from the racecourse; an increase or decrease in the value of the horses, which are eventually realized by the owners of all the horses and comes from the next owners of the horses; and the betting tickets, which is the largest amount that comes from people like me and goes to the racecourse. That last is the credit-default instrument, except that (again, as I understand it) nobody was checking to see if the Racing Form was purely fictional.

As for the dollar falling 50% against, say, Canadian currency and all, it would presumably have the effect of doubling the cost of any oil or gas or water we import from them, and so on across the board. If that happened overnight, it pretty quickly be disastrous, and pretty quickly lead to the value of the dollar dropping against domestic goods and services. Or so I understand. And similarly with the S&P dropping, although that requires (again, as I understand) another intermediary layer. Still. And yes, we do have trading halts and so on, and we could institute currency controls, the way countries have in the past. I'd like to see those sorts of things discussed, at least in outlining why we are preferring our current courses of action.

Thanks,
-V.


Credit default swaps are just like racetrack bets, except that the whole thing was insurance rather than bets, you were insuring against the horse breaking a leg, the odds were 500 to 1, the racetrack didn't actually have the money to pay out if the horse did break their leg, the racetracks were placing their own bets at other racetracks that also didn't have the money to pay out, and then things went bad because there was a crazy guy in the stable with a baseball bat.

The betting tickets at a racetrack work out fine for the racetrack because the racetrack is constantly readjusting the odds so as soon as the wagering reaches a substantial level, they are always paying out less than they're taking in. Since the racetrack doesn't want to go bust, they stop accepting bets if things get too unbalanced. It's really completely different from credit default swaps.


Popping back into this for something you said that stuck in my head over the weekend:

all I could think of was that in corporate capitalism, the fact that the whole system is dependent on short-term loans of billions of dollars from one bank to another is considered a feature.

I could be missing something, here, but I'm not seeing an eggregious stamp of corporatism (or, to an extent, even capitalism) on this. I'm not sure exactly what aspect of it you're remarking on, so I'll just say that it does seem like a feature that when I get paid from funds at one bank I am allowed to deposit them at my power-to-the-people credit union instead of having to present my claim in person at the payroll bank and carry the money in cash across town. More, the latter scenario is the kind of thing I associate with corporate capitalism as incarnated in company stores.


Well, and I overstate things. But I would differentiate between a set-up with the capacity for bank-to-bank loans of billions of dollars, and a system that regularly involves bank-to-bank loans of billions of dollars. Not to mention a system which is absolutely dependent on bank-to-bank loans of billions of dollars. Yes, co-operation between banks can be a good thing for a consumer. Your scenario, though, seems like the sort of thing the banks could settle at the end of the day, if it didn't get too large. Part of the issue is too large; there's probably no good way of distinguishing too large until the crash. But you can imagine the system that starts with co-operation between banks so that you can cash your check at a different bank, expands to let banks deal comfortably with direct deposit and so on, becomes a revenue source in itself, and at some point tips over into being a drag on the whole economy. To the extent that my critique makes any sense at all (rather than just being an emotional thing), it's that corporate capitalism, where the banks are largely responsible to institutional shareholders for their short-term share prices, rather than being individual empires as in old-fashioned robber-baron capitalism tends to blow past the tipping point on these sorts of things. But you are right that the thing you are talking about really is a feature. When I say that corporate capitalism is some fucked-up shit, I don't mean to say that there isn't something awfully shiny about it.

Oh, and Michael, my racetrack analogy was never intended to apply to the whole situation; I was unclear. I was alluding to the relationship between credit-default swaps and mortgages. Although the tickets I buy at the track aren't buying and selling horses, they would not happen if there wasn't horseracing going on—and although there would be horseracing going on without people like me making bets, there would be a lot less of it.

Thanks,
-V.


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